Can a Growing Company Grow Faster While Spending Less Cash (Part 1)
Source: Firas Raouf, Open View Partners
A lot of growing businesses face a common issue as they advance past the early stages of their development:
How can they accelerate growth while concurrently improving distribution efficiencies? In other words, how can they build a business with capital efficiency? Or, better yet, what kinds of things does an expanding company need to do to grow profitably?
I bring up this issue because one of the portfolio companies I work with is undergoing that evolution right now. It’s an exciting time for the business, and the CEO has proven exceptionally skilled at focusing his senior management team around driving higher growth, while also improving distribution economics.
That can be a tricky balance to strike, which is why I thought it might be helpful to walk you through this company’s experience, highlighting a few of the key decisions that its CEO has made to better align with that goal.
Let’s start with some background information.
This company (we’ll call it ACME, Inc.) sells a SaaS solution to enterprises that addresses a fairly common pain point within a target market. But the product also requires its customers to change the way their employees work in order to best use its features.
The target market is defined as departments within medium to large enterprises, and the sales model is direct, primarily through inside sales (with some field sales sprinkled in). Marketing is primarily delivered through SEM/SEO, email, and other forms of outbound prospecting. The product is delivered as a service and requires anywhere from two to 10 days of professional services to onboard and train customers to implement and use it.
OK, now that we have that out of the way, here are some operational metrics to provide additional context:
- The company has grown at about 30 percent year-over-year and is aiming for 50 percent.
- Licensing drives recurring revenue, with an average sale price of $10,000.
- It takes $15,000 in sales and marketing to acquire a new customer.
- First year booking is invoiced and paid upfront.
- Renewals are running at 70 percent; with upselling that number goes up to 80 percent.
- Expenses are greater than first year bookings by 6 percent (which is an indication of negative cash flow).
- Professional services account for 25 percent of revenue, with a 20 percent gross margin.
So what’s the problem, you ask?
Well, here’s a question for you: Should ACME be raising more money, allowing it to direct a larger amount toward sales and marketing and growing the company faster? That might seem like a simple question to answer, but it’s actually pretty complex.
Yes, ACME is showing decent growth for a B2B recurring revenue business, especially considering its revenues exceed a $30 million run rate. But that growth isn’t spectacular. In fact, a 50 percent growth rate is certainly achievable given the company’s differentiated solution in a big market. The issue, however, is that higher growth almost always requires more money. Unless, of course, ACME focused instead on improving operating efficiencies to fund that higher growth…
That’s exactly what it’s done. Today, the company is working hard to improve distribution economics and fend off the symptoms of poor efficiencies.
One of those symptoms involves relatively simple math: If it takes more than a dollar to generate a dollar in new customer bookings (for ACME, that’s $15,000 to generate $10,000), that’s not a good sign. Why? Because it means that new customer acquisition is expensive and that growth can’t be funded organically.
In ACME’s case, the good news is that customers pay the first year booking upfront, rather than through monthly subscriptions like other SaaS companies. So, all ACME needs to do is focus on things that will help bridge its $5,000 customer acquisition cost (CAC) gap.
How can growing companies do that?
Here are some ideas for improving CAC ratio:
1. Focus your acquisition efforts on a more specific and targeted customer segment. The sharper you are at identifying a specific pain point, the easier it is to market your solution. In other words, the more defined your target prospect is, the more efficient your targeting will be.
In the case of ACME, it historically sold to several segments within the broader enterprise market. This year, it has chosen two specific market segments (one is an industry segment, the other is a functional segment), making it easier for ACME to target those segments and lower CAC (for more on segmentation, click here).
2. Become a thought leader through online content marketing. This will allow you to generate leads without having to spend money on traditional marketing channels like email and events (Note: We’ve covered content marketing pretty extensively on our OpenView Labs site. Click here for more).
3. Break up your sales team into specialized units. Specialization creates focus and increased expertise. In most cases, growing companies need to build an inbound lead qualification team, an outbound opportunity generation team, an inside sales team, a field sales team, and an account management team (for upselling into existing accounts). In the case of ACME, the company made those hires and then divided its teams among specific segments and target customer groups.
4. Invest in better product marketing. Develop collateral and training that is specific to each target segment. Train and retrain the sales team about their specific targeting responsibilities. Move more lead qualification responsibilities to marketing (which will help you avoid sending unqualified leads to the sales team) and move opportunity qualification away from the sales team and into the website (giving visitors more relevant information before they engage with a sales rep).
5. Invest in better product management and user experience design. Focus your product development and design on the needs or pains of the specific one or two segments you’re targeting. Remember, its not about what your software can do, it’s about how customers use it.
6. Leverage your best customers as evangelists. Have an annual customer meeting where customers can share their best practice use of your product with prospects. Market videos where customers share their experiences and leverage social networks to give your evangelists more exposure.
The bottom line is that unless your CAC ratio is positive, spending more money to acquire more customers won’t make you more profitable. In fact, counterintuitive as it may sound, spending less (by improving distribution economics and efficiencies) sometimes leads to faster, better growth.
In my next post, I’ll maintain this theme, but focus on renewals and upsells, sharing some advice for how to improve their efficiencies.
About Scale Finance
Scale Finance LLC (www.scalefinance.com) provides contract CFO services, Controller solutions, and support in raising capital, or executing M&A transactions, to entrepreneurial companies. The firm specializes in cost-effective financial reporting, budgeting & forecasting, implementing controls, complex modeling, business valuations, and other financial management, and provides strategic help for companies raising growth capital or considering M&A/recapitalization opportunities. Most of the firm’s clients are growing technology, healthcare, business services, consumer, and industrial companies at various stages of development from start-up to tens of millions in annual revenue. Scale Finance LLC has offices throughout the southeast including Charlotte, Raleigh/Durham, Greensboro, Wilmington, Washington D.C. and South Florida with a team of more than 30 professionals serving more than 100 companies throughout the region.